Thursday, July 28, 2005

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The Economist is cute but wrong

Tim Harford is guest-blogging over at Marginal Revolution, and he links to a partially tongue-in-cheek Economist story (subscription required) that opens with the following:

In December, we warned that the dollar's role as the world's main currency was under threat if America continued in its profligate ways. Yet the dollar has been dethroned even sooner than we expected. It has been superseded not by the euro, nor by the yen or yuan, but by another increasingly popular global currency: frequent-flyer miles.

Harford goes on to observe, "frequent flyer miles are now the world's dominant currency, with outstanding balances at $700bn."

I'm embarrassed to say I haven't gotten around to having an online subscription, but I think the Economist's claim of frequent-flyer miles collectively functioning as a single currency is wrong. Why? Because collective frequent flyer miles are denominated with different units of account (some airlines use segments rather than miles). They also don't work terribly well as mediums of exchange -- e.g., exchanging United miles with American miles. UPDATE: Well, exchange is possible but incredibly costly, according to this MSN Money report:

Ten airlines, including American and Hawaiian, participate in the HHonors Rewards exchange, allowing the points-to-miles-to-points conversion among all 10. However, these exchanges come at a price. For the most part, 5,000 miles earn 10,000 HHonors points. (Kilometers from Lan Chile and miles from Virgin Atlantic are exchanged at a 1-to-1 ratio.) Converting the points back to miles erodes the value considerably. For all but Lan Chile, you get 1,500 miles for every 10,000 HHonors points. Essentially, you've traded 5,000 miles for 1,500 miles....

"Consumers can convert miles with United and American at a 1-to-1 ratio into Club Rewards points," says Ashley Miller, the program's North America director.

The points can be converted back into miles with the program's 24 other partner airlines, but at a 2-to-1 ratio so that 10,000 Club Reward points become 5,000 miles. There's also a handling fee for converting points to miles. Miles in those other 24 partner programs can't be converted to Club Rewards points.

The problem is that this makes the HHonors points the currency, not the frequent flyer miles themselves.

Individually, I can think of each frequent-flyer program as creating money, but together they don't form a single currency, but rather another six or seven.

It's been a while since I thought of how to define a currency, so I'd appreciate a correction if I'm wrong on this. I never feel completely comfortable contradicting the Economist.

UPDATE: Several commenters have suggested that I didn't detect the irony in the Economist piece -- au contraire, I was aware of the lighthearted one. If the logic underlying the humor doesn't hold up, however, then I'm not sure how funny it is.

posted by Dan on 07.28.05 at 12:34 AM


Another instance of those oh-so-clever Oxford boys highlighting their own ignorance and lack of common sense.

The key difference that they're missing between airmiles and conventional currencies is the much, much greater risk of it dissappearing without trace. How often does a currency, through hyperinflation or sovereign default vanish like a corporation's debts will?

posted by: Peter Nolan on 07.28.05 at 12:34 AM [permalink]

Currcies have to perform certain functions to really be considered currencies. Off the top of my head I can think of at least three. They have to serve as 1) a unit of account, 2) a medium of exchange, and 3) a store of value. Frequent flyer miles don't do any of those things particularly well. 1 and 2 are clearly out. Nobody goes into a grocery store and asks "How many frequent flyer miles for that watermellon?" And as for 3, if for some reason you decided to put your life's savings in a frequent flyer miles account you are welcome to do so, but I doubt that many people will follow your example.

I haven't read the article, but I suspect it was strictly tongue-in-cheek.

posted by: american in europe on 07.28.05 at 12:34 AM [permalink]

While it's six months since I read the article, I can confirm it was entirely tongue-in-cheek...

posted by: john b on 07.28.05 at 12:34 AM [permalink]

Oh boy, another example of why Americans don't get irony.

posted by: ab on 07.28.05 at 12:34 AM [permalink]

An obvious sign of irony is apparent on the article's face - they say $700 billion in frequent flier miles is the largest currency because it's more than the number of dollar bills and coins in circulation. That would make (dubious) sense if I could carry around a wallet full of frequent flier certificates, but as far as I know they are entirely electronic. At the very least they are better compared to the full M1 money supply, including checking accounts. Considering the illiquidity of FF miles, M2, with mutual funds thrown in, is best of all. The size of M1 is about $1.3 trillion, M2 is $6.5 trillion.

The Economist would not have made such a basic mistake. And as the previous commentor noted, the tone was clearly a snarky one, primarily interested in the effervescent nature of FF miles, not their total "value."

Incidentally, Dan, if you have a paper subscription you DO have an electronic one. You need only enter the code from your subscription label into the online registration form to activate it.

posted by: Dylan on 07.28.05 at 12:34 AM [permalink]

They were trying to be cute.

posted by: Chad on 07.28.05 at 12:34 AM [permalink]

They were trying to be cute.

posted by: Chad on 07.28.05 at 12:34 AM [permalink]

I never feel completely comfortable contradicting the Economist.

And for a good reason...

posted by: economist on 07.28.05 at 12:34 AM [permalink]

It's been a while since I thought of how to define a currency...

UPDATE: [...] If the logic underlying the humor doesn't hold up, however, then I'm not sure how funny it is.

Mmh, when was the last time you checked the definition of humor?

Or, alternatively, when exactly is humor consistent with logic?

PS: I'll take everything back if your update was an exercise in irony...

posted by: ab on 07.28.05 at 12:34 AM [permalink]

I am using to keep track of all of my air miles. I think this is the only smart way to handle your miles as otherwise I forget about some of the award programs that I am participating in and hence I donít redeem the miles that I have. I have seen airlines cutting off on miles lately too; for example, with Lufthansa if you buy discounted tickets you only get half of the miles flown.

posted by: veresch on 07.28.05 at 12:34 AM [permalink]

FF miles are in the same economic utility category as public lotteries and bottles of liquor to corporate buyers. They are just con jobs on the innumerical and/or would-be con men.

Ultimately, someone pays - FF is a way to make it look like someone else is footing the bill.

posted by: Whitehall on 07.28.05 at 12:34 AM [permalink]

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